It's Not That Big a Deal

Exploring the Tie Between Productivity and Wage

Part 1 in a series on labor and wage

The following is the first of likely three essays concerning popular myths that pertain to wage and employment. Herein, I will attempt to address the common popular fallacy that wage should necessarily rise in reflection of productivity. My aim is not to prove that this is never true, but rather to demonstrate that citing productivity as a rational for a mandated wage hike is a weak and incomplete argument.

This is a fairly common misconception that has been elevated to an argument by some of either today’s best or most misguided politicians, depending on their unknowable motives. Most memorably, it has been employed by senators Elizabeth Warren and Bernie Sanders, respectively of Massachusetts and Vermont, along with 16 others on behalf of the Fight for $15 movement to urge President Obama to take executive action to move the minimum wage to $15/hour.
The logic goes that as the average worker is producing more value, they should be entitled to a proportionally equal share of that value, resulting in a raise. Proponents say that had minimum wage kept pace with worker productivity, the federal minimum hourly wage would currently be set at $18.42[1], though some sources set it at over $20.
In some cases, this could be a sound argument, however advocates are likely misattributing the source of the increased productivity to the workers themselves. A more likely explanation is that technical advances and capital investments are greatly responsible for the increase in productivity, the cost of which is borne by the owners of capital. A correlation hinting at this hypothesis is a recent stagnation in productivity accompanied by a historically low rate of investment as a percentage of national GDP in the latter half of the last decade.[2][3]
While it is also true that investments in human capital by workers themselves-voluntary training, education, or experience-or by companies are also responsible for greater productivity, I don’t believe that there is a good case for an argument that suggests that human capital accumulation is more responsible for productivity increases in low-wage sectors than capital investment. This is especially true given the tendency towards mechanization in such fields.

Consider the following scenarios:
Tim is a lumberjack who has been working in such a capacity for the past 5 years. When he started, he could cut down 10 trees a day with an axe provided by the company’s owner. After 5 years of experience, Tim is now more productive and is capable of cutting down 20 trees with the same axe.
James, on the other hand, works for a different company in the same position for the same amount of time. When he started, he could also cut down 10 trees in a day with an axe owned by the company. In the third year of his employ, James’ boss invested in chainsaws for his staff. Using the chainsaw, he is now capable of cutting down 20 trees per day.
Both workers’ levels of productivity have increased by the same amount, yet it would be ridiculous to argue that they should be compensated equally for this difference. Tim is demonstrably twice as productive as when he began and at no cost to his employer. His increase in productivity is completely organic and is due entirely to what we might call his own investment in human capital. James’ productivity increase, however, is due to an investment by his employer in machinery. That investment includes initial cost as well as upkeep (repairs, fuel etc.). In addition, while there is an element of investment on James’ part in his own technical skill, it is probably offset by a widened pool of applicants that is now able to perform his task. Such an investment in reality makes James’ job far easier and thus accessible to those who would have previously been unable to handle the workload. In actuality, James’ employer’s investment likely means that competition for his job has increased, creating downward pressure on the real price of his labor.

The other side of this coin is that he is no longer working as hard for the same amount of money, barring a reduction in pay. If we had some unit by which to measure effort, and their pay levels were to remain equal, James would be expending fewer units of effort per dollar earned than Tim.

As business owners continue to move towards automation and mechanization, and greater levels of production are attainable through the labor of fewer and fewer workers we can reasonably expect a coinciding change in the labor market to occur. As with every period of technological advance, the nature of available jobs is changed, but as old jobs are eliminated, new ones are created. The level of skill to operate and maintain such machinery will require sufficient investment in human capital as to elevate the wages of some, while the implementation of such machines will surely diminish overall employment at the bottom end of the production chain once a capital investment becomes a more attractive option than an employee who is paid hourly-a desire that is only exacerbated by arbitrary wage hikes.

Arbitrary wage hikes present a situation of diminishing returns for employers and employees alike. There exist both a natural limit to how productive a low-wage employee can be in such a position (in terms of dollars) and a natural limit to the price of their labor that an employer is willing to pay. The latter is simply the former minus some quantity, as no employer wants to employ someone at a loss or even neutrality. As the price of labor is pushed up, it makes less and less sense to employ low-skilled humans, especially when automation presents an evermore-attractive option. There is no limit on the price of labor that can be mandated, but there is a limit on how much employers are willing to pay for labor, unless they can be coerced by some means to do so.
The relationship between wage and productivity is, thankfully for all of us, not an intimate one. If they were, by some ill-contrived legislature or regulation, to be forced to move in relation to each other, then companies would lose the incentive to improve the means of production and remain wasteful. The incentive to innovate and streamline comes from the desire to increase profits and cut costs to the consumer. If the savings of improved productivity were continuously absorbed by wage increases, the consumer would never experience those benefits. Because we are all consumers of labor on a much grander scale than we are laborers, this would not likely be advantageous to any individual.

Of course, that is not to say that increased productivity due to investments can’t result in raises for workers-if it is the employers prerogative and within his ability to pass some of the profits on to his employees, so much the better-nor that it shouldn’t in some cases. Most readily, those cases would include scenarios where the workers are paid by unit, are working harder due to meet demand spurred by new investments, or own the means of production themselves and have made corresponding investments yielding higher productivity. Ultimately, however, we may never forget that the final market price of goods must account for and exceed all the labor and materials used to create a product; therefore final price and demand must be considered in the discussion of the price of labor. The problem with clumsy mandates is that they don’t (and realistically can’t) take these nuances into account.

Implying that productivity and wage should correlate is, in most cases, a weak argument, as productivity increase occurs largely outside of workers’ efforts and already benefits them when they take the role of consumers. An individual instinctively wants the price of her labor high and the price of everyone else’s to be low. When policies are put into place that uniformly lift the price of labor, final prices are not immune. The result is that protesters fighting for higher wages today will be protesting rising costs tomorrow.

In conclusion, the tie between wages and productivity cannot be shown to be innate or even uniformly desirable.[4] Increased productivity due to capital investment should not be used as grounds for mandating higher wages across the board, as it will de-incentivize investment and ultimately slow economic growth, leading to the cannibalization of future employment opportunities. In the case of a workforce that is becoming more capable due to human capital acquisition, their wages will likely increase due to a restricted supply of such workers. This is a negotiation that should take place between the parties involved and need not concern the nation at large.

[1] EPI analysis of data from the U.S. Department of Labor’s Bureau of Labor Statistics and Labor Wage and Hour Division

[2] Duesterberg and Norman, “Why Is Capital Investment Consistently Weak in the 21st Century U.S. Economy

[4] It is worth noting that an artificially high minimum wage will curb the potential for future human capital acquisition for the least employable members of society. This is because the minimum cost at which their labor is available for purchase is too high to warrant hiring inexperienced or under-qualified individuals.